The Real Estate Espresso Podcast

On today’s show we’re talking about Student housing. I’ve been a student housing investor since 2012. Historically, I’ve loved student housing. I got my start by owning property in the shadow of Temple University in Philadelphia. When you add together the revenue from each room in a student rental, it adds up to much more than the revenue from renting, say, a 3 bedroom apartment. Yes, the turnover is high. Yes, students can be messy. They all tend to move in and move out on the same day. The cycle for student housing follows a very specific schedule. If you miss the window for rentals, you might be facing vacancy for the entire school year, not just a month. But the big story in student housing is the massive change that is taking place in online classes. Long before the mass move to online classes that happened mid-semester due to Covid-19, the trend toward online classes had been underway for more than a decade. When I started investing in student housing, there was a shortage of housing next to Temple University. We were easily able to rent rooms for $600 a month and sometimes even $650 a month. By 2014, as more capacity entered the market, prices started to drop. When the university opened a new dormitory with 1,200 beds, the market flipped from under-supplied to over-supplied overnight. So we started looking further afield. We held numerous meetings with architects, planners, and consultants in the city of Arlington Texas. Arlington is the home of the University of Texas campus. The largest UT campus is in Austin. But in order to get into Austin you needed a 90% average. You could get into UT Arlington with an 80% average and then transfer to Austin after two years. It was a way to get into the Austin campus with a lower grade point average. . We placed numerous offers on properties for development. Ultimately, we never did quite succeed in getting a large enough property to develop. We decided last year in 2019 to take another run at delivering student housing to the UT market. We received the latest market study authored by the student housing office at the university. What it showed was pretty telling. The campus had grown to 51,000 students. A large school by anyone’s measure. The combination of on-campus housing in one of 18 building, along with numerous projects within a short distance of the campus provided housing for 6,000 with approved projects in the pipeline that would ultimately bring 11,000 units of housing for a campus of 51,000 students. So far, it sounds like the addition of another 100 units would not create an oversupply situation. But here’s where a small piece of data, changed our outlook completely. In 2019, 52% of the classes held on campus were also being simulcast online. That meant that if a student lived in the Dallas Fort Worth area, they could spend an increasing amount of their academic year engaged with the university through their computer screen. If they needed to come to the campus once or twice a week, they would drive. The case for living on campus was starting to get weaker. Well folks, now the Covid-19 pandemic has forced the acceleration of the trend that was already underway. Now I get it. There are some faculties that can’t be taught online. The school of dentistry won’t be taught online. The PhD program in psychology won’t be taught online. In the past week, Queens University announced that the majority of its classes next fall will be conducted online. The University of Texas is holding the balance of its Spring term, and both summer sessions online. New York University is doing the same. So if you’re the owner of student housing, you can expect negative cash flow this summer, and possibly into this coming fall semester. You may need to take action now to develop creative marketing plans for getting your units leased before there is a glut on the market.

On today’s show we’re taking a short trip through the history books to see what history might teach us about today. The year was 27 BC and Augustus was the emperor of Rome. Their money was the roman denarius, made of 98% pure silver. The pure coinage remained until 64AD when there was the Great Fire of Rome which destroyed close to 60,000 buildings, almost 90% of the dwellings in the city.  Nero was the emperor at the time and it took a lot of money to rebuild the city. In order to afford the rebuilding, Nero made monetary reforms which reduced the silver content in the coins to 93%. Emperor Vespasian reduced the silver content to 89%, Marcus Aurelius reduced the silver to 75% and Septimius Severus reduced the silver content to 50%.  By the time Gallienus was Emperor from 260AD to 268AD, the denarius had a meager 2.5% silver content. These coins were made of bronze and had a thin coating of silver which tended to wear away very quickly. It was during the time of Gallienus, despite a number of military victories, that important provinces started to splinter away from the Roman Empire. From 249AD to 262AD, the Plague of Cyprian which lasted 13 years caused widespread shortages across the empire and was one of the major contributing factors to the eventual demise of the Roman Empire. Rome was the epicenter of trade in Europe. As the coins had less and less silver, soldiers in the empire demanded higher pay. Prices for commodities increase. Eventually runaway took hold. By 265AD, there was less than 0.5% silver left in the coins and prices increased 1000%. Only mercenary solders were paid in gold. The trifecta of rising administrative costs which caused soaring taxes, runaway inflation and worthless money caused much of Rome’s trade to collapse. I totally understand why governments all over the world are printing money in response to the pandemic. In some ways, I think they have little choice. Many think that we’re not in an inflationary period. That prices are not rising out of control. So the printing of money is appropriate. Remember, inflation is an average. We have seen prices for oil drop in the short term as the level of economic activity fell during March and April. What will happen when there are shortages of food? What will happen when there are shortages of building materials like steel or ceramic tiles? Will those prices go up? In places they already have gone up in price. You see, if printing money were the path to prosperity, the Zimbabwe and Venezuela would be the richest nations on earth and they’re not. So here we are in the year 2020 AD. We have global trade splintering into local trade. We have plagues. We have printing of money. Every time this has been tried in human history, the path to prosperity has been interrupted by economic collapse.  We’ve seen this movie before. We know the ending. The actors are different in this remake of the movie. But the plot is basically the same. I’m calling this movie “The return of Caesar’s coin stamping machine, part 29.” When newly printed money is dropped from the sky, it’s not falling uniformly, or even fairly on the population. It’s going to some people first, and then to others not at all. When the unfairness of this wealth transfer has become visible in the past, the result has almost always brought armed conflict. The headlines this morning tell the story of economic recovery that is now underway. The economy is the result of output of its people, not the printing of money. When people are sitting at home, collecting a check from the government, they’re not producing. That check breeds dependence. It stifles creativity. I know that I would not be thinking hard about business strategy if I was getting paid to sit home and watch movies. In truth, I don’t think I would want that check.

On today’s show we’re talking about how your business can survive the Covid-19 outbreak. Of course the degree to which you take action is a function of the nature of your business and the assets in your portfolio. We remain in a period of unprecedented uncertainty. You don’t know if the businesses in your commercial space will survive. You don’t know if your tenants will lose their job and when their unemployment benefits will run out. Every single property must be treated like a business. That means paying attention to both income statement and balance sheet. Business survival is based on one simple concept, positive cash flow. The emphasis needs to be on cash flow. If your cash flow has turned negative, you need to decide whether this is a temporary situation or a long term situation. When cash flow is negative, then cash reserves become of paramount importance. How many months can your apartment building survive if it is losing $5,000 a month, or $10,000 a month? Often times, I’m seeing investors trying to solve a cash flow problem with the balance sheet. That means borrowing more money. If your problem is short term, then that’s the appropriate solution. You take on a little more debt, but you save the property. It’s easy to assume that people are not moving during this period of social isolation. While it is true that the level of activity has dropped, it’s not zero. For example, I moved in the middle of March. Cities like Dallas continue to attract new business. According to a report in the Wall Street Journal two weeks ago, there were 1,500 corporate headquarters staff relocating from California to Texas in the middle of the pandemic. I’m talking with landlords who are continuing to attract tenants. At the same time, I’m also reading market reports that show zero movement. Both are true at the same time. These are challenging market conditions. It’s tempting during these times to take your foot off the gas and rationalize that it’s not worth the effort. Marketing is the exercise in generating interest. Salesmanship is the process of converting interest into sales. Now is the time to practice and improve your skills at closing the sale. Let’s say that you’re running a restaurant that has closed its dining room and you’re trying to make ends meet by offering take-out. It might not be your restaurant. Maybe the restaurant is a tenant in your building and you have a vested interest in having the restaurant survive. The restaurant could offer clients the option of repeating the same order for the next 3 weeks for a 10% discount. Their Friday night dinner is taken care of for the next month, and the client is helping a local business. It might save them a trip to the grocery store. I saw a video from a jewelry store owner in Brooklyn yesterday who was complaining that her store wasn’t allowed to open when Walmart and Costco were open. It seemed incredibly unfair to her. Her revenue was zero. My heart goes out to her. She could do a window shopping campaign. I’m redefining window shopping to mean the following. The store should send an email to all their clients reminding them that a gift received during the pandemic is worth 10x what a gift is worth during normal times. It would be so unexpected, that the receiver will remember the gift for decades to come. The client calls the jewelry store from outside the window. The shop keeper talking from the safety of being inside the store shows the client the merchandise. The order is placed by credit card and the product is delivered to the client by courier or by curb-side pickup. Mail order businesses and e-commerce businesses are not closed. A small re-thinking of the transaction opens up the possibilities that were not available before.

Maheen the Machine asks, Hello Victor, I trust you are safe and healthy! I have always had this belief that you collect gold for the day that the dollar loses most of it's value and then you "cash" it in??? Yet, I never hear the experts say to "sell" your gold. They always mention using gold as "insurance" but never go into detail or give examples. You interviewed Russell Gray and he is amazing. When he was talking about Gold He mentioned using gold with debt. He recently said the same thing on his recent podcast "Golden Opportunity." He states you should "marry" gold with debt. This is unclear to me. I was wondering if you could shed your perspective. Sometimes the same information coming from a different source "penetrates." At least, for my sake let's hope so. HA! Thank you for what you do. It truly is invaluable! Thank you Maheen for the kind words and for a great question. The philosophy that both Russell Gray and I share is that you should have the bulk of your assets in the form of hard assets with intrinsic value instead of paper assets that could carry counter party risk. In order for money to be money it has to perform two functions. It must be a store of value and a means of exchange. The US dollar is a very good means of exchange. A for a store of value, that’s not as clear. We can debate how much inflation we think we have. But when you look in retrospect there is no question that we have experienced significant inflation over the years. In my lifetime, a cup of coffee has gone from 15 cents to more than two dollars. A gallon of gas has gone from 25 cents to about $2.50 cents, and at times over 3 dollars. We like to invest in real estate. More importantly, we like to use other people’s money. That is in essence a form of leverage. When you use other people’s money and you retain a portion of the ownership, you get to multiply your rate of return. But using other people’s money isn’t free. There’s a cost. You either give the lender a rate of return on their money, or you give them a percentage of equity in the project. If you borrow money, the interest rate that you pay is a function of risk to the lender. If the lender has a lot of security, they’re probably going to be willing to offer you a lower rate. Funds borrowed with a high degree of security in today’s rates might be as low as 3% or 3.5%, depending on the lender. Unsecured funds could be easily above 12-15%. The cheapest money will be the money that the lender has a guarantee of getting their principal back. Most of the time, borrowers secure their loan against a piece of real estate. The lender ends up having to qualify the borrower, the market and the specific asset. That’s a lot of due diligence. Let’s look at a specific example. Let’s say that you want to invest in a townhouse that you’re going to hold as a rental. The purchase price is $200,000 and you’re going to borrow 75% from a bank. The remaining 25% is the equity contribution. So you need $50,000 in cash to buy the property. Where are you going to get $50,000? You decide that you want to borrow the $50,000 that would normally be considered the equity contribution to the purchase. So you go to your friend, the rich lawyer who has tons of cash and you ask to borrow the $50,000. You offer to put, say, $70,000 worth of gold in your friends safety deposit box as collateral. So you pledge 40 ounces of gold. When the loan gets repaid, you get your 40 ounces of gold back. But a few years have gone by, and your 40 ounces of gold are now worth $100,000. In the meantime, the lawyer charged you 3.5% a year for the loan of $50,000. The property has also gone up in price and instead of selling it for $200,000, you now sell it for $300,000. Your initial investment of $50,000 has now grown by $100,000, and your gold has increased in value by $30,000. You get to keep all of that profit. 

Mark Victor Hansen is the best selling author of all time and is famous for the "Chicken Soup" series of books along with his partner Jack Canfield. Mark has a newly launched book called "Ask" which talks about the transformative power of simply asking. Mark and Nicky are also hosting a huge virtual summit this week with notable people including John Maxwell, Ken Starr, Candace Owens, Ashar Alam, Marc Von Musser, Jeff Hoffman, Crystal Hansen, Theresa Dugwell, Nicky Billou, and several more amazing speakers.  There is no cost to attend this two day event on May 21-22. Simply register at yourfinesthoursummit.com. This talk with Mark was so much fun. We agreed to sail together in France as soon as conditions make sense for all to do so.

Damion Lupo specializes in self directed qualified retirement plans. Properly structured, these plans give the owner full check-book control and the possibility of taking advantage of some of the benefits of the CARES Act. Join me for a fascinating conversation with Damion Lupo.  

Today’s question comes from Sue in Pennsylvania. Sue asks, “I have a buyer who wants some debris removed from the property as a condition of closing. I’m worried that I won’t be able to get the debris removed from the property in time to close and that it might jeopardise the sale altogether. It doesn’t seem like a big deal that should hold up the closing and my attorney says the buyer is using it as an excuse to stall on the purchase. What do you suggest?” Sue, that’s a great question. You can’t really tell if the buyer is dragging their feet on the purchase with this. But there is a simple way to find out. There is a concept in marketing called risk reversal. The idea here is to transfer the risk from the buyer to the seller, to eliminate the objection. This is the same as what happens when a buyer finds a bunch of problems during the building inspection. They’ll complain that the bathroom window seal needs to be fixed and that the railing on the stairs needs to be tightened and that the old smoke alarms need to be updated because they no longer meet the building code. When buyers come forward with these types of objections, they’re often looking to negotiate a discount on the property. As the seller, you might be feeling a lot of pressure. You might be saying the discount is disproportionate to the cost of making the actual repairs. There might not be time to get all the repairs done by the closing date. My suggestion is to not negotiate a lower price. Instead, offer the buyer what is called a hold-back. If the repairs would cost $2,000 to complete, and the seller is asking for a $5,000 discount, I would offer to put $10,000 in escrow with the title company. That money would remain in trust until the repairs have been completed. If the repairs are not completed by a specific deadline that you both agree upon, then the $10,000 would revert back to the buyer. In essence you’re guaranteeing the performance of an item post-closing by pledging a bond that is many times the cost of the item in question. In truth, you’re not really going to risk $10,000 or $50,000 or whatever number you agree to pledge. You have zero intention of losing that money to the buyer and you make it clear to them that you are confident in completing the work by pledging a larger amount than is necessary to do the work. You’re simply agreeing to get most of your money on the closing date, and you’re pledging to fix the listed defects post-closing. The key to not arguing over the holdback with the buyer is to make sure your lawyer does a great job of listing the terms under which the funds will be released to you with the presentation of the inspection report to the trustee who has received an irrevocable letter of direction on how the funds are to be disbursed. The goal here is to eliminate the objection, and for you to maintain your negotiating leverage. When you can easily overcome any objection with a simple solution like this, you demonstrate to the other side that you have strength. It discourages the buyer from chipping away at you with more objections. Some negotiators are bullies. When they smell weakness and they succeed in getting a concession from you, they often don’t stop at one concession. They keep coming back for more. If it worked once, maybe it will work again. You want to put a stop to behaviour where the buyer feels like they have the negotiating upper hand. You want to restore balance to the negotiation.

On today’s show I want to address something that has been on the mind of many investors I’ve spoken with in the past week. We’re talking about the frustration be feeling stalled, of deals falling apart, of delays as a result of the current market conditions and the pandemic induced delays. I’m hearing from a lot of driven type-A personalities that they feel like they’re failing. When you’re used to getting things done, to slaying a dragon each and every day, it’s unnerving to feel like the market has passed you by. We have seen delays of all kinds. We have seen professionals like lawyers and accountants take longer than normal to respond. We have seen lenders take longer. We have seen contractors struggle with supply chain disruptions. We’ve seen customer support calls facing incredible wait times. In the past, wait times that were 6 minutes, are now sometimes 30 minutes, or even 3 hours. Materials that should have been delivered to a job site in one day have been waiting for over 5 days with no clear forecast on when they will be delivered. Parts for a vehicle repair have been waiting for nearly 4 months. Office supplies that should have been delivered in a single day, took nearly 3 weeks. When they were delivered, the quality was not up to par. Last year, deals were too expensive. Today, the economy has changed and the deals are still to expensive. It’s going to be another bunch of months before prices fall to the point where the valuations make sense. More waiting. Oh, it’s an election year in the US. That means some investors will want to see the outcome of the election so that they know what tax rule changes might come into play, depending on who gets elected into the White House. All of these uncertainties mean only one thing – more delays. As professionals, we pride ourselves in being able to set expectations. I pride myself in being able to control the outcome. These days, I’m finding myself incredibly frustrated by the seeming inability to deliver items whenever there is a single external dependency. I don’t control what others do. All I can control is myself and my own response to others. I find myself making excuses and resetting expectations. Things that used to take a few hours are now taking a week. It’s hard to adjust to the new pace. I’m not working any less. I’m not taking my foot off the gas. It just feels like life is in slow motion. I hadn’t given myself permission to adjust to the new pace. Is this the new normal? This week I was in a mastermind meeting with other developers. We compared notes on what was happening in the market. We talked about the struggles we were facing. It was through the process of masterminds that I finally gave myself the permission to slow down. By talking with other entrepreneurs I was able to see that I wasn’t alone. Everyone was experiencing greater difficulty in getting tasks to completion, to having projects achieve their milestones. Everyone was experiencing changing terms from lenders, seemingly variable commitments from investors. Everyone was experiencing slower progress and labor shortages in construction. Everyone was experiencing supply chain disruptions. The stress I was experiencing was the result of the gap between my expectations and the reality on the ground. I only control my expectations and the expectations that I set with others. I can’t change reality. I may be able to influence the future through my actions. But reality is in the present, not in the future, and not in the past.

On today’s show we’re talking about a major change in the way realtors market properties. In particular, the National Association of Realtors are the defendants of a lawsuit brought by a consortium of agents called Top Agent Network in U.S. District Court for Northern California. Top Agent Network, a San Francisco-based, members-only platform for real-estate agents. The California Association of Realtors and the San Francisco Association of Realtors are also co-defendants in the lawsuit. At issue is a new policy called Clear Cooperation. The suit seeks unspecified damages and to reverse NAR’s newly enacted “Clear Cooperation Policy,” which went into effect May 1. The new policy requires NAR members to share their listings through the local multiple listings service rather than shopping them privately to a few contacts, a practice increasingly preferred by wealthy and high-profile sellers. Members who violate the policy face punishment, including fines. The problem with clear cooperation is that in many cases sellers want to maintain privacy. Contrary to the NAR policy which mandates that its always in the sellers best interests to make the property available to the widest number of buyers. Privacy is sometimes a hallmark a concept called exclusivity. If a property is a sought-after property, like a waterfront property, the seller wants to attract a qualified buyer. The seller doesn’t want to be inundated with showings. They want a small number of fully qualified buyers to come and view the property. What NAR is saying is that the seller doesn’t have the intelligence, in fact they don’t even have the right to choose how their property is marketed. Last month they had the choice, now NAR says that they don’t. As I’m recording this episode, I have a gold coin on my desk. Part of what gives the gold coin its value is the scarcity of gold. If gold was as abundant as water, there’s no way it would maintain its value. It’s that exclusivity that gives it value. When you take something that is rare and commoditize it, you actually lower its value in the eyes of the buyer. It’s surprising to me that a sales organization like the National Association of Realtors would fail to understand such a basic concept. The idea of value seems paradoxical. We know that if there are multiple bidders on a property, the value will be higher than if there is just a single offer. Casting the net wider using the public MLS makes it possible for more potential buyers to become aware of the property. The fact is, realtors have multiple tools in their toolbox. It’s not a one size fits all. Clearly an exclusive listing for a commodity 1BR condo in a building that has hundreds of units might be inappropriate and not in the best interests of the seller. But to outlaw a tool, because it might be possible to abuse a tool seems highly unreasonable. At the end of the day, the seller should have the choice of which method to market the property.

Incredibly we have seen the stock market rebound in the past week in response to the Federal Reserve monetary stimulus and the government’s fiscal stimulus. But there are several characteristics about this market rally that are troubling. 1) The volume of shares being traded is way down. Not only that, the market index is being influenced by a smaller number of companies than perhaps at any time in history. Let’s talk about what thin trading volume means in this context. It means that after the major selloff, there are not that many people looking to execute trades in the market. So a smaller number of buyers or sellers can significantly influence the price of a stock. The prices have gone up in the past week, but the buying sentiment is not broadly based, its very narrowly based. That means its quite fragile. A similar sized sell-off could easily crater prices. 2) Let’s talk about patterns of investing. I’m one of these folks who believes in investing on the basis of fundamentals. There is another school of investing called technical. That’s when you speculate on market timing and market psychology. Terms like bull market and bear market come from the world of technical analysis, where traders aim to time the market. Many analysts are calling this a bear market rally that is a precursor to the big drop.  3) Warren Buffet spoke about a week ago to the shareholders of Berkshire Hathaway. In his remarks, there were three items worth noting. He is divesting if stocks including airline stocks. He is saying that it’s going to be a number of years before the airline industry recovers. After all, he is 89 years old and he likely won’t be alive to see the full recovery in the airline industry. In the last downturn Warren Buffet was active in doing deals. For example, helped GE with a line of credit to ensure they had liquidity if they needed it. Today, he’s divesting of certain assets and is holding onto a record amount of cash. He isn’t making the same kind of bullish statements that we heard back in 2008 and 2009. The Buffet indicator measures the total market cap (TMC) relative to the US GNP. If valuations are going up, and the economy isn’t growing, then the index goes up. Let’s talk about why the stock market matters. Some people in the press are saying that the stock market is not the economy. That’s absolutely true. It’s as if to say that stock values can drop and it’s only a few wealthy investors who are going to have a smaller cash pile at the end of the day. Big deal. That’s not affecting main street. Well folks, this is where the connected nature of our world is virtually impossible to escape. You see we have tens of millions of baby boomers who are nearing retirement, or have recently entered into retirement. Guess where those retirement funds are highly concentrated? That’s right, the stock market. It’s in mutual funds. It’s in pension plans. While I don’t advocate the stock market as a place to invest right now. In fact I have been recommending against it for about 5 years. When you’re dealing with people who are in their 30’s, they have plenty of time to recover from an investment setback such as we are experiencing right now. But if an investor is in their 60’s or 70’s, they simply don’t have the time to hope they can make it back. If they’re incurring losses, these losses are likely permanent. The focus has been on job losses in the employment economy. Let’s not forget that the scope of the pain is going to extend far beyond the immediate. If retirees suddenly lose 30%, or 50% of their retirement savings because of a stock market crash, their spending power has been diminished for decades to come.